Layoffs at ESPN as sports fans turn off cable sports

In 2011, ESPN began construction on what they called “Digital Center 2” - a 195,000 square foot digital broadcasting center that executives called the most “technologically and sophisticated” broadcast center in the world. Its main studio featured 150 monitors and miles of LED lighting. Those same executives in its unveiling called the facility “future-proof.”

The funny thing about the future is that it always seems to make mincemeat out of those things that claim to be immune to it.

Last Wednesday, the future arrived on the doorstep of the nationwide leader. The biggest sports conglomerate on the planet and the centerpiece of Disney’s maturing cable television empire made news by laying off scores of employees across the company - including on-air and writing talent whose names are sure to be recognized by sports fans.

Baseball writing legend Jayson Stark? Gone.

NCAA hoops star and Obama bracket whisperer Andy Katz? G’bye.

Former Seattle Seahawk QB turned analyst Trent Dilfer? Looking for work.

Coaching carousel guru Brent McMurphy? Dialing up sources for jobs.

GQ wannabe and network rising star Danny Kanell? That next ill-fitting suit might have to wait.

Even PAC 12 blog personalities such as Chantel Jennings and - say it ain’t so - Ted Miller have acknowledged that they are no longer associated with the network. This comes just months after fellow writer and friend of the UW Dawg Pound Kevin Gemmell was told that his contract with the network would not be renewed.

What in the name of late/great Stuart Scott is going on around here?

The short answer is that ESPN is a profitable but declining business that exists within a large corporation that is committed to growing returns to shareholders. That means that the proverbial expense curve must be bent severely enough to at least match a flattening revenue curve.

The longer answer is that the cable behemoth has been living off of profits associated with value that they haven’t necessarily created for customers in a business model that those same customers are more commonly rejecting. This notion is one that warrants further exploration as it has profound implications on the future of sports broadcasting, which includes the future of one of my favorite topics: the PAC 12 Networks.

Let’s start with the basics here. ESPN generates most of its revenue on a “per subscriber per month” business model. On average, ESPN - not yet counting its sister networks such as ESPN2, ESPNW, ESPNU, etc - is paid around $7.25 per subscriber by the cable and satellite network companies (Comcast, DirecTV, Dish, Cox, etc). Add in those sister networks, and that number rises to somewhere close to $9 per subscriber per month. When you consider that the average subscriber’s cable bill is about $100, ESPN alone is getting nearly 10% of each check you write. By point of comparison, Fox News - the leading US news broadcaster by ratings - is about $1.40. AMC, which has carried major hits such as Breaking Bad and The Walking Dead, is about $0.40.

So, yeah, ESPN is making a lot of cheese off cable subscribers. But the stink on that cheese is that many - in fact, most of those subscribers either don’t think that ESPN is worth 10% of their cable fees or don’t watch ESPN at all.

As my grandfather used to say, “there’s the rub.” ESPN - just the single property - generates nearly $8 billion in revenue every year from that business model. Some (or much?) of that $8 billion is captured off of the cable bills of those subscribers who don’t care that much about ESPN. The gap between what a subscriber thinks ESPN is worth and what they actually capture off of the monthly cable bill is referred to by some in the industry as the “over-earnings.” I’m not smart enough to put together a reasonable estimate of what ESPN’s over-earnings really are. However, in this day and age of cord-cutting and online media, it is clear that consumers are taking some of those over-earnings back. That’s bad news for ESPN.

Much of those so-called over-earnings have allowed ESPN to pump up the bubble for rights to sports content. In fact, some analysts are noting that the company is committed to around another $8 billion in costs associated with those rights this year alone. These costs are allocated to things like Monday Night Football, NCAA bowl games, college sports networks, NHL rights, and MLB.

That ESPN is able to outbid everyone on the planet for these rights due in large part to this phenomenon of over-earning is a curious dynamic. It is viewed by some - myself included - as a form of a pyramid scheme, though more of the economically unsound as opposed to the patently illegal variety. In essence, ESPN is leveraging funds that it hasn’t truly “earned” to corner the market on content that isn’t as valuable as they fundamentally believe.

The rapid rise of the “cord-cutting” class - those media consumers who have decided to get their broadcast content via apps and streaming devices - has put the ESPN business model under pressure. The layoffs announced this week are just the latest in a series of market signals that indicate that things are changing. Since hitting a height of over 100 million subscribers in 2011, ESPN has experienced a prolonged and steady decline in subscriptions all the way down to somewhere around 88 million today. This despite the fact that the purchasing power of the American consumer has risen significantly on the tide of one of the most enduring boom economies the US has ever experienced. In fact, ESPN suffered the loss of 621,000 subscribers in one month late last fall - a record decline.

There is no doubt that cord-cutting is at the heart of these declines. A survey reported on by the Wall Street Journal - which I’m fairly certain is real news - late last fall, indicated that one in five households had already or were planning on cancelling cable subscriptions in favor of online streaming media. What’s more is that those looking to cord-cut were concentrated among the highest cable customer brackets. These customers are expected to cut about $104 per month off of their media costs - a 56% total reduction.

We are talking about real money here and, if most observers are to be believed, it is just the proverbial tip of the iceberg. Better streaming technology, new cellular data and broadband standards and investment in new “digital only” content will continue to push consumers away from traditional pay-for-everything-only-if-you-watch-a-few-things pay-tv models.

Before anyone begins shedding tears for ESPN, and by extension Disney, take into account some context. ESPN is still the largest enterprise in Disney’s vast cable network portfolio. All of those Disney cable networks combined comprise nearly $17 billion in revenues and more than 40% of the company’s total profit. That is more than theme parks and movie studios (including Star Wars and Marvel titles) combined. Needless to say, Disney still controls enough resources to have a say in how the future of sports broadcasting works out.

One thing that does seem certain, however, is that the so-called “future-proof” Digital Studio #2 may not be so future-proof after all. ESPN will almost certainly have to evolve as they lose leverage over the network providers who are losing ground with consumers at a rapid rate. The good news, if you are a Disney shareholder, is that most of those same network providers happen to also serve as the primary Internet providers to those same households that are cutting their cable cords. It is still an open question as to what content providers and app makers - the Netflixes, Slings, Tivos and Hulus of the world - will step up to take on sports streaming. What is less of a question is what role the cable and satellite names you already know will be playing. They are still going to be serving up a media pipeline right up to your homes and mobile devices. Therein lies the leverage that Disney/ESPN will focus on as they define their role in that future.

What is of more interest to me is how the PAC 12 Networks fit into this future. I wish that I had a good answer for you, but I’m not a futurist and I lack the kinds of clairvoyance that prestigious intellects such as Al Gore and Donald Trump purport to have. My instinct tells me, however, that the PAC 12 is in a good position as all this shakes out. While it is true that they may have missed out on the short-term windfalls that some of the other Power 5 conferences earned on the tails of the big ESPN over-earnings fueled race into college network ownership, the fact that they’ve maintained 100% ownership in their own property feels like a favorable situation. At the very least, they’ll not necessarily be tied to the dictations emanating from the worldwide leader as ESPN negotiates their own future with their “us-first, you-second” prioritization scheme a certainty.

Larry Scott and crew will undoubtedly have more flexibility and the greater opportunity to self-direct the future of their network than will those leagues that are tied to ESPN. If the future becomes more about alignment with certain content streamers, global contracts, and Internet providers, they won’t necessarily be tied to the decisions that are in the best interests of Disney. They also won’t have the same obligations to share their proceeds.

That is a good thing. It is good for the PAC 12 Networks and, probably, good for typical sports fans like you and I.